Cash may be king, but digital money fans aim to overthrow it. Stablecoin, a type of cryptocurrency linked to real assets, is gaining powerful backers in technology and finance who hope to seize a crucial role in global trade and the economic world order.
Unlike Bitcoin, Ethereum and many other digital currencies, stablecoins have backing from actual reserves of gold, dollars, euros or other assets. The idea is to reduce volatility.
Social media king Facebook (FB) and bank giant JPMorgan Chase (JPM) each have plans for a stablecoin. Amazon (AMZN) may jump in too as it expands into more markets. Meanwhile, China’s central bank has its own stablecoin in the works that analysts warn could take over emerging markets.
Facebook may be in an especially strong position if it can leverage its 2 billion users. That may help explain why Facebook is pushing its Libra stablecoin forward, even as partners drop out and governments cast suspicious eyes.
International Monetary Fund officials seemed to describe Facebook’s cryptocurrency ambitions in a recent blog post. To be sure, stablecoins promise seamless payments and an open architecture.
“But the strongest attraction comes from the networks that promise to make transacting as easy as using social media,” IMF analysts Tobias Adrian and Tommaso Mancini-Griffoli wrote in September. “Payments are more than the mere act of transferring money. They are a fundamentally social experience linking people.”
Future Of Cryptocurrency?
Like other cryptocurrencies, stablecoin has its foundation in blockchain, a distributed ledger technology that records transactions. Tether, which has dollar backing, is the most popular token of this type at the moment. It has a market cap of just over $4 billion, according to CoinMarketCap.
The market is flashing signals that stablecoins could be the path forward. Analysis by Binance Research shows that as a group they now dominate cryptocurrency market share in terms of trading volume. Their share reached 61% of the market in May 2019, compared to just 36% in 2018.
Bitcoin is still the largest cryptocurrency in terms of market capitalization. But such cryptocurrencies without asset backing are still recovering from an epic boom and bust. The lack of such volatility in stablecoins has made them more attractive as methods of payment.
The stakes in the stablecoin race are rising. The booming global payments market is expected to swell to $2.7 trillion in 2023 from $1.9 trillion in 2018, according to McKinsey & Co. That includes point of sale purchases, bill payments, electronic funds transfers and all other forms of payments.
“The payments sector has always struck me as an area where there is a massive opportunity,” said Catherine Tucker, a co-founder of the MIT CryptoEconomics Lab and a member of Libra’s advisory board. “The fact that we spend so much money on payments — percentage points rather than a fraction of percentage points — is quite surprising when you think about the promise of the digital economy.”
The Benefits Of A Stablecoin
Within payments, cross-border payments alone account for $230 billion and are a ripe target for a cryptocurrency. Right now, businesses can’t directly transfer funds between banks in different countries. Instead, they must go through correspondent banks, which have relationships with both the sending and receiving banks.
Transactions take three to five days to clear. Goldman Sachs estimates the transaction and currency exchange fees average 4%-4.5% of volume. A cryptocurrency could settle the transaction instantly, cutting out middlemen and slashing costs.
Stablecoins will also help bring smart contracts into the mainstream. These self-executing contracts with terms written into lines of blockchain code allow agreements to move forward without a central authority or other third party.
Business-to-business payment “is probably the most immediate part where you could see some traction, and you are already seeing that with intrabanking,” said Wedbush Securities analyst Moshi Katri.
Networking Consumers Via Cryptocurrency
In addition to business-to-business payments, analysts see benefits in the consumer space. One example is avoiding high remittance fees expats pay when sending money home.
MIT’s Tucker also noted the problem of being “unbanked” in much of the world, including the U.S. She pointed to the value of mobile payments as a way around obstacles to accessing traditional banking systems.
In addition, in countries with banking stability issues, such as Venezuela, she hopes a cryptocurrency will offer a valuable alternative.
The overlap with social networking and stablecoin is key. “Stablecoins offer the potential for better integration into our digital lives and are designed by firms that thrive on user-centric design,” the IMF analysts wrote in their September blog post. “Large technology firms with enormous global user bases offer a ready-made network over which new payment services can quickly spread.”
Facebook says Libra users anywhere will be able to transfer money to friends and family with the company’s WhatsApp messaging service.
Oanda senior market analyst Alfonso Esparza told IBD that Facebook has an opportunity to be a first mover and bypass barriers to entry in markets where the financial system is not strong.
“It is not that far-fetched that we could have a Facebook bank open in India in the next five years,” he said.
Top Banks Embrace Cryptocurrency Technology
One notable example of a bank embracing the stablecoin concept is JPMorgan. The firm made waves this year when it unveiled its JPM Coin. This is the first cryptocurrency with a major U.S. bank’s backing. The stablecoin, which is in pilot stage, can help settle payments between clients in its wholesale payments business.
Circle, a payments company backed by Goldman Sachs (GS), rolled out USD Coin last year. It now has a market cap of $460 million. Compound Finance, which acts as a money market for cryptocurrencies, has seen big growth in USD Coin. CEO Robert Leshner told IBD the most popular use is for purchasing other cryptocurrencies. But another use is cross-border payments.
“The second most frequent use case is using it for international payroll,” he said in an interview. “We know a number of teams that are using USD Coin to pay developers in foreign countries. We’ve heard positive stories of people accepting USD Coin as a means of quickly receiving compensation.”
China Eyes Cryptocurrency Lead
When Facebook unveiled Libra, it notably left out China, announcing a basket of other world currencies would back its single stablecoin. They include the U.S. dollar, the euro, the yen, the British pound and the Singapore dollar.
But China could snatch the opportunity to dominate the cryptocurrency space with a stablecoin of its own, warned RBC Capital Markets analyst Zachary Schwartzman.
“The People’s Bank of China has expedited its development of a Central Bank Digital Currency (CBDC) after Libra’s announcement in June,” he said in an Oct. 15 research note. “If U.S. regulators ultimately dismiss Libra and decide not to draft regulation to encourage Crypto innovation in the U.S., China’s CBDC may be strategically positioned to become the de facto global digital currency in emerging economies, largely through Alipay, WeChat, UnionPay and other messaging & payment apps.”
Facebook CEO Mark Zuckerberg played up geopolitics as he struggled to assuage skeptical lawmakers.
While testifying before Congress in October, he said “Libra will be backed mostly by dollars and I believe it will extend America’s financial leadership as well as our democratic values and oversight around the world.”
Facebook Libra In The Balance
But Facebook faces challenges on numerous fronts, in addition to skepticism from regulators and lawmakers. The Libra Association, the collection of firms backing the currency, is crumbling.
Meanwhile, Amazon has long been rumored to be eyeing the cryptocurrencies too. Having its own stablecoin-based payment method could free Amazon from region-specific requirements and allow it to address new markets overseas.
“Revenues are important. But it’s more about getting market share and future revenues,” Oanda analyst Esparza said. “Amazon has been running this model for a while. And they have given signals that they could go into something like this.”
Stablecoins carry the same underlying risks as the asset backing them. If the eurozone underwent a fiscal crisis, a euro-backed stablecoin would go down with the euro.
Lawmakers have warned about the loss of sovereignty and the weakening of central bank stimulus measures like quantitative easing.
House Financial Services Committee member Rep. Brad Sherman, D-Calif., said in July that Libra has the potential “to transfer power from the United States government to sanctions- and tax-evaders, terrorists and drug dealers while reducing the importance of the U.S. dollar as the reserve and trade currency.”
Also in July, Fed Chairman Jerome Powell said “Libra raises serious concerns regarding privacy, money laundering, consumer protection, financial stability.”
The IMF officials raised concerns in their blog post about stablecoins overall. They warned, among other things, that new monopolies could rise, the shunning of local fiat currencies could hinder economic growth, and illegal activities could expand.
They also questioned whether stablecoins are indeed stable. Issuers must generate trust by backing stablecoins one for one with other assets, so a cryptocurrency worth 10 euros can be redeemed for a 10-euro note, they say.
Cryptocurrency Reserve Bank?
And, they ask, what would happen if an issuer goes bankrupt and creditors try to seize assets backing the stablecoin? Would a stablecoin owner be able to get real money back any time? What if there’s a run on a stablecoin?
Facebook has said currencies would fully back Libra. USD Coin is fully backed, and accounting firm Grant Thornton independently audits reserves every month. But Tether has failed to provide a promised audit showing adequate reserves.
One solution might be to require stablecoin issuers to keep reserves at central banks. That would result in what the IMF calls a synthetic central bank digital currency (sCBDC). Each central bank would have to weigh issues of payment system stability, financial inclusion and cost efficiency.
“One thing is sure: The world of fiat money is in flux, and innovation will transform the landscape of banking and money,” the IMF analysts wrote. “You can bet your bottom dollar on it.”
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